When US markets saw Paris metaphorically implode just a few weeks ago, the consensus reaction was: “Let’s not do this.”
Unrest broke out in the French capital after protesters initially highlighted failings in the public school system. The action snowballed into widespread expressions of dissatisfaction with the cost of living and job prospects.
The European nation’s macroeconomic health is not in great shape: unemployment was 8.3% in the second quarter, real GDP growth was 0.4%, and wage growth was 1.7% nationally. And underpinning it all is public debt, which currently stands at 116% of GDP, with 30-year bonds topping 5.4% at the time of writing.
And the U.S. bond market, trying to reach out to its own policymakers who were presiding over rising debt, ground to a halt. In fact, 10- and 30-year Treasury yields have even fallen.
“There’s a reason why the United States has pulled back a little bit in recent weeks (and) why France hasn’t,” Heather Long, chief economist at Navy Federal Credit Union, said at a Bipartisan Policy Center (BPC) event last week. “These are some key indicators that differentiate us from France and suggest… that we still have some room to have these debates now, in the context of a K-shaped economy.
“We’re at about 100% debt to GDP; they’re at 120% debt to GDP. They’re further down that crisis curve and they’re growing at about 0.5%. We’re growing at just over 2%. That’s a pretty big difference.”
Although economists largely agree that policymakers may be naive in their hopes of simply getting the United States out of the debt crisis, starting from a place of strength rather than stagnation gives the economy a better chance of rebalancing its debt-to-GDP ratio.
But Long added that France also differs from the United States in that the former has exhausted much of its ability to raise revenue through taxes. According to the OECD, the “tax wedge” (the difference between labor costs for the employer and the corresponding net salary of the employee) for French workers is 47.2%, according to its most recent data. The United States, on the other hand, is down 30%.
“It’s certainly not easy to raise taxes in the United States, but from the perspective of the financial world and the bond market, there is much more room for experimentation and growth in the United States than in France,” Long added. “To me, the biggest warning sign in France is not just the K-shaped economic effect, but also the generational effect that’s happening and seeing young people really leading this latest protest… because of the disparities they’re seeing between the generations, and that seems to be a pretty big foreshadowing of what we might see here as we move toward a 120% debt-to-GDP ratio.”
The question of generation
As with any debt, the question of repayment is not if but when – and that’s the question budget experts are asking the public and politicians to think about.
Phil Swagel, director of the Congressional Budget Office, said policymakers have a series of choices to make: how they might prepare for slower growth if spending cuts, what forms of taxes to explore, and so on.
“The other set of choices you can think about with the deficit is about which generation pays, so the longer we wait to make changes, that means some generations… are missing their share of the burden of adjustment,” Swagel said at the BPC event, “and then who within each generation will pay a tax.”
He explained: “The longer we wait, the more certain generations, in some sense, are not sharing the burden of the adjustment. Then, who within each generation is affected? I think there is a societal consensus that it will be progressive, not in the political sense, but in the sense that households with relatively high incomes will have a greater share of the adjustment. But that’s a societal preference, and there’s a lot of room for disagreement on that.”
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